In the following, we are going to highlight the potential of SME banking and how it’s still a relatively untapped growth lever that banks ought to focus on.
SME Digital Banking – New Opportunities
While the attention by banks in recent years has been on serving the consumer market, the SME market generates higher revenues and around 10%–15% return on equity. This provides a significant opportunity for existing and emerging financial institutions.
The “gig economy”, however, is a relatively new term that was created to reflect the working habits and tendencies of what we know as the ‘millennial’ generation. The term refers to a flexible working culture where its members choose to work as freelancers or independent contractors and have more control over their schedule and working hours.
According to research by Mastercard, the size of the gig economy transactions in its online iteration alone is projected to grow by a 17% CAGR with a gross volume of ~$455 billion by 2023. This is due to factors such as evolving societal attitudes around P2P sharing and increasing digitization rates in developing countries.
Technology firms are also discovering the potential of the SME and gig economy segment. For instance, Uber launched its own debit card, not with the goal of becoming a bank, but so they could onboard drivers faster to grow their business. However, by embedding banking in the driver onboarding process they got around the friction of forcing an unbanked driver to visit a bank branch to get a piece of plastic.
Today, Uber can pay their drivers up to three times per day, using their instant pay capability, which is only available through the Uber driver debit card. By issuing their own debit card, Uber instantly became one of the largest acquirers of new SME bank accounts in the USA, despite that not being their goal.
Alibaba, Amazon, and MercadoLibre have started to offer business banking services to entrepreneurs on their platforms. Whether that is an online storefront through their platform, small business loans, foreign exchange, capital management, invoicing, taxation, etc… increasingly these platforms will enable small business owners to do more of their banking and finance integrated into their platform.
Disrupting the industry will be about making services more user-centric, so techniques such as design thinking, improved customer experience, business functionalities, and the use of internal and external data provide opportunities for banks to compete against Fintech or non-financial institutions to serve SME financial needs by segment.
To become really relevant and make an impact on SME development, banks will have to become a day-to-day companion. They will have to become an entity that understands, not only the SME vertical segment but its state of maturity, being able to design products and services around the jobs that the SMEs need to do, providing the basis for more targeted and innovative solutions. These solutions can include addressing previously unmet needs such as cash flow management, working capital solutions or invoicing services.
As small businesses grow, their needs become more complex, creating an opportunity to provide tailored products and solutions based on maturity stage in order to help them realize the next stage in their growth journey, especially when external finance (such as bank loans or lending) is the key source of funding for this segment.
In some regions, for instance Latin America, where more than 99% of all enterprises belong to the SME segment (which adds up to more than 11 million ventures in the five largest Spanish-speaking markets in the region: Argentina, Chile, Colombia, Mexico and Peru), there is a huge potential for increasing SME financial inclusion and productivity.
Some countries are seeing opportunities to reduce tax evasion by requiring SMEs to issue electronic invoices. Other government initiatives include the automation of traditionally manual processes such as the signing of documents and the filing of tax returns. This regulatory initiative is finally aimed at promoting a more formal economy, reducing fraud and increasing tax collection.
According to McKinsey, almost 50% of SME working hours can be automated by investing in new technologies, so that access to technology can be seen as a catalyst for productivity. Banks can increase SMEs’ productivity by providing subscriptions and/or connections to productivity tools such as QuickBooks, Sage, Xero for invoicing and accounting tasks, but also tools such as Slack for collaboration or Zapier for automating workflows.
More urgently, cloud-based technologies and SaaS platforms can help SMEs reduce costs by establishing more transparent financial statements through any registered record sales, expenses, inventory, suppliers, taxes and payroll. These tools allow time savings, quickly employees quickly complete administrative tasks and concentrate on more profitable activities.
Also, financial institutions must choose which role they want to play in the new world of Open Banking. Different options exist to create an API-enabled ecosystem market in the SME finance value chain, providing innovative third-party products and services to SME customers. For more details about which roles banks may choose in order to compete in the Open Banking economy, please refer to this article.
Platform-based business models create a network effect as their ecosystem of participants expands. Well-constructed platforms take on a momentum of their own as participants interact, generate reciprocal value and help extend these ecosystems. As ecosystems grow exponentially, providers are collectively able to deliver a wider range of solutions, creating a much greater distribution and access to a broader range of customers.
Stay tuned for the next post on how traditional banks and challengers are approaching this new SME segment.